This is a perpetual question, but with regard to Wells REIT II's recent purchase of Market Plaza, a picture is worth a thousand words:

Leo to His Wife: "Honey, It Ain't My Money, and I Seriously DON'T care...."

Wells REIT II & Market Plaza.jpg (40.4 KiB) Viewed 9740 times

This chart shows that investor demand for core assets, a sharp improvement in credit conditions, and initial signs of a strengthening economy powered a strong recovery in commercial real estate, particularly in major markets like the nation's capital. Cap rates compressed by 40 to 50 basis points across all property types in the fourth quarter of 2010, but as you can see, the rebound has been the most spectacular in the office sector, and office capitalization rates in certain Washington D.C. submarkets have declined by more than 200 basis points since the 2009 meltdown.

Notably, what it also shows is that average cap rates for core CBD office property in Washington D.C. have NEVER declined below 5%, EVEN during the bubble years.

Unfortunately, Leo Wells can't be bothered with such data, because he has other people's money to spend (and a 2% "acquisition" fee just for collecting it). Wells REIT II's $615 million purchase price ($904 p/sf) actually translated into a cap rate that was well below 5%, and that clearly makes the price tag wildly rich relative to today's market, or any market. Wells said generally that the cap rate was "under 5%" but one official Wells statement pegged it at 4.60%. The CRE Review, which I would consider to be, ahem, a more reliable source on this matter, [url=http://thecrereview.blogspot.com/2011/03/market-square-sold-for-615mm.html]quoted the acquisition cap rate at 4.22%[/url].

Initially, the property had been expected to fetch [url=http://www.crenews.com/index.php?option=com_content&task=view&id=70564&Itemid=1]no more than $450 million[/url], according to Commercial Real Estate Direct, or about $622 p/sf. Indeed, Less than 25 days after Wells bought Market Square, the Rockefeller Group announced the joint venture purchase of 1101 NW K St., a 293,598-square-foot, Class A office property fewer than ten blocks to the North (2006 construction). The Rockefeller Group joint venture bought the property for $199 million, or about $678 s/ft, which is nearly $226 per square foot less than Wells paid for Market Square, but in line with what Market Square was thought to be worth before Wells showed up.

Significantly, there was virtually no difference in rental income at the two properties. According to Costar, [url=http://www.costar.com/News/Article/Beacon-To-Sell-Market-Square-Office-Complex-in-DC-for-$615M/126826]the average asking rent at Market Square is $54 p/sf[/url], while the average asking rent at 1101 NW K St. [url=http://www.costar.com/News/Article/JBG-Rockwood-Sell-1101-K-St-in-DC-for-$199-Million/127432?ref=/News/Article/JBG-Rockwood-Sell-1101-K-St-in-DC-for-$199-Million/127432&]is $59 p/sf[/url].

Officially, Wells is justifying this craziness with a 2006-era bet that even though the property was purchased "at under a 5 cap rate," there was "great potential to increase cash flow over the next several years as the current below-market leases...approach expiration." Essentially, Wells is rolling the dice on its ability to renew expiring leases at much higher rates than tenants had been paying. Meanwhile, on the very same day that the Wells acquisition machine was trumpeting potential rent growth at Market Plaza, the other side of the house was busy cutting the Wells REIT II dividend. The reason given for that move was as follows:

As our tenants’ leases have come up for renewal....they are seeking more rent concessions, tenant improvements, and lease accommodations than in the past. In addition, we are seeing some of our tenants courted more aggressively by other office building owners more willing to offer tenant-favorable lease terms. We currently find ourselves negotiating lease terms in a tenant-favorable environment

Given this market data, it seems pretty clear that Wells did overpay for Market Square (significantly so), and whether Wells REIT shareholders will ever get their money back this monster purchase is somewhat doubtful. Furthermore, without some significant rent growth there is no way that a $615 million purchase with an unlevered yield of 4.22% can fully cover its share of the freshly cut dividend (now 5%). It's not likely that Leo is too worried about any of this. After all, he earns a 2% "acquisition" fee just for raising the money, and in 2009 and 2010 that fee alone entitled him to pocket $30 million -- regardless of how his deals performed or what he bought. How's that for data?

Piedmont Office Realty Trust sold a 264,482-square-foot office building in Holtsville, N.Y., for about $39.3 million.

The Atlanta company in March hired Jones Lang LaSalle to market the property at 5000 Corporate Court, which is 82 percent occupied by federal government agencies that include the Food & Drug Administration and the Bureau of Citizenship and Immigration Services.

Piedmont, which was previously known as Wells REIT, acquired the Long Island, N.Y., property for $52.5 million in 2002, about two years after it was built. It is on 37 acres near exit 62 of the Long Island Expressway.

Next up for Wells REIT II may be a dividend cut, and if you're an advisor that only reads the Wells REIT marketing material, I can tell you that this dividend cut is practically official. And here's the reason:

As of the date that Wells acquired Market Square (over 12% of the portfolio) for a record setting price, the property was 96.2% leased.

Now, barely nine months later (year end 2011), Wells is reporting that occupancy at the Market Square buildings has declined to 94.1%. Wells is also reporting that the portfolio overall was approximately 93.9% leased, which is a decline of almost 100 basis points as compared to Q1 2011, when the Wells REIT II office portfolio was approximately 94.6% leased.

This does not mean death for investors in Wells REIT II, but it does mean that the dividend will be under pressure. This is how the company describes it in their 2011 10K:

But don't worry. if you want to sell your Units under the Wells REIT II shareholder redemption program, the program is still available, and best of all, you'll only need to take an immediate 37.5% hit to your principal!

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